Chapter

Chapter 16 Significance of China’s New Monetary Law

Editor(s):
Manuel Guitián, and Robert Mundell
Published Date:
June 1996
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Author(s)
Wenkai Yang

At the Third Session of the Eighth National People’s Congress on March 18, 1995, the Law of the People’s Republic of China on the People’s Bank of China (PBC) was approved and adopted. The law, which draws on other countries’ experiences with legal practices, outlines the objectives and the authority of the central bank. During the formulation period, the IMF offered recommendations and consultancies and provided suggestions on the legal framework. I would like to take this opportunity to express our sincere gratitude to everyone who helped us in this endeavor.

This is the first financial law since the founding of the People’s Republic of China 46 years ago and the establishment of the PBC 47 years ago. The formulation and implementation of the law are of paramount importance to the central bank’s ability to fulfill its functions in accordance with the law, which are currency stability, the strengthening of financial supervision and management, and the sustainable and sound development of the national economy.

The formulation and implementation of the law represent a milestone in the establishment of our country’s financial and legal system and symbolize that our country’s financial and control system has taken a giant step toward conforming with the practices of the rest of the world.

The formulation of the law has entailed 14 stages of ups and downs, which can be divided into 7 “ups,” 5 “downs,” and 2 results. Drafting committees were organized on seven different occasions, and the law therefore underwent seven drafting stages. Drafting was delayed five different times, either because the conditions were not ripe for change or because other, unforeseen, events intervened. Finally, there were two sets of results: the Provisional Regulations of the People’s Republic of China on the Management of Banks, promulgated on January 7, 1986, and this law. The 14 stages that went into the formulation of the law represent a further deepening of the reform of the financial system.

The legislative considerations that influenced the formulation of the law are based on national conditions and on the valuable experiences of other countries with central bank legislation, which are appropriately combined in our country’s financial system reform so as to result in a central bank with Chinese characteristics. To learn from other countries, we organized many study tours to Australia, Canada, France, Germany, Hong Kong, Japan, Korea, Singapore, the United Kingdom, and the United States to examine central banking legislation. We sorted out and studied a great deal of material, held consultations with international financial institutions, and conducted many international seminars on the subject. All of these sources were helpful in the drafting, discussion, and approval of the law.

The guideline we followed in formulating the law was that it had to reflect national conditions and Chinese characteristics, including our country’s political and economic characteristics, history, present situation, and prospects for the future. These characteristics are manifested in the structure and the clauses of the law. Chinese characteristics are also manifested in the contents of the law, that is, the PBC’s function and legal position, the autonomy of the central bank, monetary policy objectives and instruments, the central bank’s supervision of commercial banks and other financial institutions, the central bank’s fiscal budget system, and the legal repercussions of violating the law.

The law illustrates the objectives of China’s monetary policy, which I would like to focus on because they are the foundation for the formulation and implementation of the policy. A programmatic document guiding our country’s economic restructuring, entitled “Decisions on Certain Problems with Establishing a Socialist Market Economic System,” states that the stability of the value of the currency is the central bank’s main objective. Another document, “Decisions on the Financial System Reform,” states that “the ultimate objective of the central bank’s monetary policy is to maintain the stability of the value of the currency so as to promote economic growth.” In accordance with the above-mentioned decisions, and after repeated discussions and study, Article 3 of the law decreed the following: “The aim of monetary policy is to maintain the stability of the value of the currency and thereby promote economic growth.” This article, which takes into account both the stability of the currency and economic growth, reflects national conditions.

During the discussion and drafting of the law, some officials indicated that monetary policy should focus on stabilizing the value of the currency and promoting economic growth. A representative of the Ministry of Finance fully agreed with the opinion. He suggested that the word “thereby” be deleted from the article and indicated that maintaining a stable currency and promoting economic growth were not only the objectives of the central bank’s monetary policy but also the primary objectives of the Government’s macroeconomic adjustment efforts.

Other officials expressed the opinion that the central bank’s monetary policy-should have one goal, that is, to ensure the stability of the value of the currency. They believed that monetary policy at a certain point should act as a brake, tying in with other macro policies so as to ensure economic development. They therefore advocated that the law, rather than pursue the dual objectives, should limit the central bank’s monetary policy to maintaining the stability of the currency. Liu Guoguang, a member of the People’s Congress and an economist, held this opinion and suggested that the words “and thereby promote economic growth” should be omitted. In his view, pursuing two objectives could only lead to an emphasis on economic growth at the expense of the stability of the currency. Moreover, if monetary policy were designed to pursue both objectives, there would be an overheating of the economy and continuous inflation, which would have to be adjusted through administrative measures. This kind of cycle would only cause great waste.

A few representatives and committee members held that monetary policy should have multiple objectives, including, in addition to the two mentioned, full employment and equilibrium of international trade. However, many members disagreed, maintaining that overall economic policy, not monetary policy, should be designed to achieve some of these goals.

The People’s Congress, deciding with the majority, decreed that the aim of monetary policy should be to “maintain the stability of the value of the currency and thereby promote economic growth.” Under normal conditions, the value of the currency should be comparatively stable, and the economy should grow at a moderate pace; the two functions should not be in conflict. Monetary policy can be a driving force in promoting economic growth; however, when the economy is booming at the expense of the stability of the currency, monetary policy can play a role in controlling the situation so as to ensure the stability of the value of the currency instead of adding fuel to the flames.

With the law in place, the PBC faces many challenges in implementing it if it is to facilitate the attainment of high growth with relative price stability.

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